Onshore or offshore? Making sense of insurance bonds Q&A

Q. Are you able to comment on Gifting/Assignment of existing Bonds in Trust? Here or at another event? Julian.

A. Assignment of bonds into trust is not a chargeable event. Assigning out is a trust distribution, and that is not a chargeable event either.

Q. Onshore bonds receive a basic rate tax credit, but what is the actual tax paid internally in an onshore bond? Is it less than 20%?

A. As long as there are dividends in the return then the tax will be lower than 20%. So it varies - have seen as low as 9% and as high as 18%

Q. Is there any Irish Withholding tax inside the Pru Offshore Bond?

A. Awaiting answer from PIA Tax

Q. Is the Corporation tax inside the Pru Onshore Bond deducted monthly or quarterly? Is this calculation done manually or electronically by the life office software

A. For our open architecture bond that is now closed to new business it is taken monthly. 
There is no deduction on the other bonds as the tax is factored into the unit price.

Q. if you hold 100% equity funds in onshore bond then no dividend tax but still paying capital gains at 20% (22%) on growth each year. is that correct? can you offset losses from a negative year (I don't think so but want to check). thank you

A. Gains and losses within insurance bonds can be offset against each other.

Q. How important is the client’s expected tax position at encashment when choosing between onshore and offshore bonds?

A. It's the most important factor in our opinion.

Q. Is it possible to use top slicing on an offshore bond to stay within the personal allowance and pay no tax?

A. No, this would not work. Top-slicing eliminates liability to higher / additional rate tax, it does not eliminate basic rate tax.

Q. On death of last life assured, is total gain taxed as 'normal' as if the deceased had made a full surrender? Or are there special rules where it's taxed on the estate or beneficiaries' marginal rate? Any special reliefs? Could make sense to encash gradually if old to avoid a big tax hit at the end?

A. On the death of the last life assured, the gain would be assessed on the policyholder and a tax return would be completed by the personal representative where the policyholder was also the last life assured.

You are right in saying that this has the potential to trigger a large chargeable gain in a single year.

So if people want to avoid the policyholder being taxed in the year of their death, it's a good idea to add other people as lives assured (e.g. children/grandchildren), or if you're going offshore, you could set-up the bond on a capital redemption basis.

If there are remaining lives assured or the bond is on a capital redemption basis, then that means the bond doesn't automatically come to an end on death. So the planning opportunity of assigning segments to beneficiaries of the will and having them surrender segments over multiple tax years can work, and it could help minimise the income tax.

Q. Can you confirm if with offshore bond full gain without top sliced would take you into HRT, but top slice brings you below, does that reduce the rate of tax to 20% from 40%

A. Yes, this is exactly how top-slicing relief works.

Q. For top-slicing, I thought the personal allowance would reduce the overall chargeable gain prior to top slicing however, more recently I've come to understand that the top slice could sit within the personal allowance (therefore multiplying the personal allowance many times over?). is that correct?

A. When calculating the tax on a "slice", the personal allowance can be used and it can help increase the amount of top-slicing relief that is available. I would suggest running through some scenarios on our calculator, which can be found here: https://www.mandg.com/adviser/tech-matters/tools-and-calculators/tax-relief-modeller

Q. I recently calculated an offshore bond gain £7500/19 = £394, and assumed it would fit within the £500 savings allowance. When it was actually calculated, the savings allowance was used earlier in the calculation and ~£1,500 tax was due, not nil as I thought top slicing would produce.

A. Without seeing the actual calculation, it's difficult for us to comment. Other savings income would use the PSA in priority to the bond gain. It's important to remember that top-slicing relief helps eliminate liability to higher rate / additional rate tax. It's a common misconception that a top-sliced gain falling in an allowance means there is no tax due.

Q. Where clients have inherited an investment bond, when does the calculation of the gain start from? Inception of the bond or the date of the inheritance?

A. Inception of the bond.

Q. Is Bare Trust not a PET?

A. The appointment of a segment within a discretionary trust on bare trust is not a PET, as no gift has been made from someone's estate.  The settlor's gift was a CLT, and it was their original gift into the discretionary trust.

Q. When the segments are assigned from the Trust to the beneficiaries within first 10 years of the trust, is there any extra charge?

A. Typically, if a trust is set-up with no entry charge, then an exit is very unlikely in the first 10 years. But there are instances where this can happen, so we suggest advisers consider this before providing any advice.

Q. What if the bond within the trust is split between 2 beneficiaries? Will 10y periodic charge apply?

A. The trust investments do not dictate whether a periodic charge applies or not. If a discretionary trust is used then a 10 year periodic charge could apply. Separately, any exits from the trust could be subject to an exit charge, although exit charges in the first 10 years are not common for most trusts.

Q. How is income from an offshore bond treated after the bond is 20 years old assuming 5% withdrawals from day 1?

A. The exact same as onshore. If the tax-deferred allowance has been fully used after 20 years, then any future withdrawals will create chargeable gains. So in effect, your clients will start paying tax on withdrawals, as tax deferral is no longer possible.

Q. Does the Starting rate not use up the PSA of £1,000/£500?

A. No, the starter rate for savings is separate to the Personal Savings Allowance (PSA).

Q. Sorry, not an onshore v offshore question. But for offshore bonds, using DFM, what should the VAT position be for ongoing advice fees? Should there be a difference between IOM/Dublin? Seems to be source of endless debate in our office.

A. We believe DFM charges are exempt from VAT in Ireland, and this isn't the case in the Isle of Man.

As for adviser charging, we are not sure whether there is a difference, so you may need to seek advice on this matter.

Planning Matters

Q. so, if my understanding is correct', if a client took out onshore bond while a UK resident and then moves to Portugal to live and no longer is a UK resident there would be no UK tax to pay?

A. If this individual has had an onshore bond, then they would have already paid the internal tax on the bond. But you are right in saying that once somebody is not a UK-resident, then the chargeable gain regime does not apply to them, so there shouldn't be any exposure to UK tax. But there could be exposure to tax in their new country of residence, hence why it is so important to seek advice.

For clients who are likely to move abroad in the future, an offshore bond has the potential to be more tax-efficient, but clients should seek cross border advice prior to setting up the bond to ensure it will be suitable in the future.

Q. Rule of thumb used to be don't go offshore unless £100,000 and held for at least 7 years.... Still applies?

A. No, we don't think this can be used as a rule of thumb. The client's expected income at the point of surrendering the bond is the biggest factor.

Q. Investing in the same funds over 10 years and with full encashment is onshore or offshore better for each category of taxpayer? Alternatively does the additional 2.5% annual return, in your example, get covered because there's little internal tax with an offshore bond?

A. As covered in the webinar, it takes longer for offshore to "win" if the client is going to be paying higher or additional-rates of tax on the bond surrender (unless the effective rate of tax onshore is equal to the basic rate of tax). And we think 10 years is probably too short for HR or ART, as the gross roll-up in the offshore bond would need more time to overcome the tax

So for somebody with a 10 year time horizon, offshore is only really going to be suitable for clients who are not higher-rate or additional-rate taxpayers.

But be mindful that if you're looking to extract the gain out in a single tax year, then those clients are almost certainly going to have exposure to higher rate or additional rate. The ideal strategy for bond gains is to extract them over a number of tax years, as this strategy with top-slicing relief can help limit exposure to the basic rate of tax.

Q. If a gains on a corporate investment bond is subject to corporation tax, why / when would an onshore bond be used, if any?

A. Simplicity especially for those whose corporation tax bill might be covered by the tax credit, or some people may like the comfort of FSCS protection or the fund required may only be available in an onshore bond.
Onshore was very popular when corporation tax was a fixed 19% as the credit covered the tax making everything quite simple.

Q. so, for additional rate tax payers that will always be additional rate, offshore bond is better, with investments high dividend paying funds?

A. No, the opposite is actually true. An onshore bond is likely to be more suitable for these clients as they are only paying 20% / 25% on the dividends as opposed to full marginal rate offshore.

Q. Is this for grandchildren that are for minors?

A. Yes, in our case study the grandchildren were minors as they were still in school.

Q. Should there be a delay between assigning a bond and surrendering it in the new holders name? If so, what period is best?

A. No, we don't think there is a need to delay, as long as the bond segment is an unconditional gift. You may wish to wait until a new tax year if you do not want the final year rule to apply.

Q. Does the deed of appointment method to assign the segments to minors?

A. Yes, a deed of appointment must be used as minors cannot accept receipt of investment bonds. So you can't use a normal deed of assignment for minors.

Q. Hi Shoaib, how does the trust position work in terms of transferring funds from the Discretionary Trust to the Bare Trust on the grandchildren's case?

A. Nothing changes, the original discretionary trust still remains in place. Legal ownership of the segments remains with the trustees (unless they amend them for the segments held on bare trust). All that has happened is that the trustees have made a beneficiary a beneficial owner of some of the trust property, effectively making a distribution. The appointment has no impact on the settlor, as this is not considered another gift.

Q. Can a minor receive segments and or cash in an offshore bond?

A. A minor cannot receive segments, so you can't use a normal deed of assignment. However, a deed of appointment can be used to create a bare trust, and the segments then get assigned into that bare trust for the minor's benefit. The end result is the same, the gain gets taxed on the minor.

Q. Can I ask, what about corporate cases? Onshore or offshore? Do you have rules of thumb?

A. The same principles apply but with that 20% dividend exposure we used in the case study the crossover point was only between 3 to 4 years based on a 25% CT bill.

Q. due to the favourable treatment of dividends are higher yielding 'equity income' funds best within an 'open architecture' bond best?

A. Open architecture is available on and offshore, so the question is really should high dividend yielding investments be in onshore bonds. And, potentially, but you need to be very careful not to let the tax tail wag the investment dog.

Although there is an advantage in holding dividend paying investments in an onshore bond, this shouldn't affect the overall suitability of the investment, as this is far more important than any tax saving.

Q. You said everyone should be writing more bonds in general. What's your view on Bond vs GIA (CGT allowances down)?

A. We think the debate on investment bonds vs GIA has shifted massively, due to the reduction in the CGT allowance and the increased taxation on investment income e.g. the cuts in dividend allowance and increased tax rates. Advisers should consider the use of investment bonds for more clients. But remember it is about getting the correct balance not an either or.

Q. If CGT rates are equalised with income tax rates, does this favour bonds and which benefits most offshore or onshore?

A. Absolutely, this would make bonds even more attractive. With CGT, it's important to remember that there is no top slicing relief equivalent, so some clients could end up paying 40% on gains in this hypothetical scenario. And as for whether onshore or offshore bonds would benefit more; this depends on the factors we talked about in the webinar (e.g., dividend component, time horizon and expected tax rate at the point of surrender).

Q. I find bonds are generally better for clients over their lifetime, but if the client plans to leave their estate to charity, holding a large GIA over a bond can be more beneficial as all gains die with them? my understanding is bonds can't be left to charity so would have to be encashed on death?

A. That is our understanding too. But we also understand that if an offshore bond carries on post death, for example as the CRO was chosen, then encashed the personal reps would be paying tax at basic rate, the gain becomes savings income when passed to the charity and the charity could reclaim it. This seems to meet the objective you describe to benefit the charity post death but be better for your client in lifetime.

Q. can you answer the questions about additional rate clients, that will always be additional rate. all the tax plays are largely irrelevant? what's the discussion path then?

A. For clients likely to be additional rate taxpayers, then an onshore bond is probably going to be more suitable, as the effective rate of tax will be lower than what it would be in an offshore bond. Separately, it would take an extremely long time for the offshore bond's gross roll-up to overcome this advantage.

You are right in saying that for additional-rate taxpayers the planning opportunities are much more limited.

Another option could be to consider assigning the segment to somebody else who is perhaps paying tax at a lower rate, although you would need to be mindful that any gift of segments would need to be unconditional.

Q. Is there a general advantage to Onshore v Offshore when they are placed in Trusts?

A. No, the decision will come down to the likely tax rates of the beneficiaries. For example, if a discretionary trust has beneficiaries who might be non-taxpayers during certain stages in their life, then an offshore bond is likely to be more suitable. Typically, with trusts, offshore bonds are more common as there is uncertainty about the future tax position of beneficiaries, as you can't really predict what young adults/grandchildren are going to do in the future for employment.

Other matters

Q. It is the lack of UK FSCS protection on offshore bonds that puts many potential clients off. How can we reassure them in this scenario?

A. By putting them in an informed position. There are many different layers of protection protecting policyholders before it would event get that far. See this https://www.mandg.com/assets/shared/documents/en/genm100034221.pdf

Q. If legacy commission is banned, will this impact charging structure? Will there be pressure on HMRC to allow a restructure to a new adviser charging structure without triggering a chargeable event?

A. That would be up to the provider. Providers can add adviser charge to existing bonds if they wish - at the end of the day an adviser charge is just a policyholder withdrawal.

Q. I don't believe your charges are aligned onshore & offshore....

A. They're not aligned but there's not much difference.

Q. PruFund growth offshore has more overseas assets than onshore (I believe?)

A. No, the asset allocation for PruFund Growth is the same across all the wrappers - https://www.mandg.com/adviser/funds/prufund/discover-prufund

Q. Bond product movements - is there any scope in the future to allow people to move bonds between providers like you can ISA's/GIA's/Pensions as that's something that puts a lot of people off given the issues being stuck with providers / moved to them in the future if issues arrive or service falls.

A. There's scope for anything in the future!  We have not heard of this being considered at all. It would need tax law changes amongst other things so we suspect it would be highly unlikely.

Q. how do gains affect Student loan repayments - on and offshore

A. Yes, chargeable gains from investment bonds would be treated as savings income, and this can trigger student loan repayments.

Q. If I have a very wealthy client with say 10m, would it be beneficial to split between offshore and onshore? Clearly, he’ll always be an additional rate tax player, so how would I best play this? thanks

A. Technically, it would be tax-efficient to hold dividend paying investments in an onshore bond, and other investments in an offshore bond.

But in reality, this type of planning is incredibly difficult to administer and would potentially result in the tax tail wagging the investment dog.

So in our view, if the individual who will surrender the bond is likely to be an additional-rate taxpayer, then an onshore bond is likely to be preferred. This is because an offshore bond would take a significant amount of time before the gross roll-up overcame the lower effective rates of tax offered by an onshore bond.

But for this client, have we considered that they might assign segments to others in the future? For example, children or grandchildren who might be non-taxpayers or basic-rate taxpayers.

In this scenario, an offshore bond could be more advantageous than an onshore bond.

Q. What circumstances would you see as key for an argument to rebase a bond? For instance, a bond invested 20 years ago with no withdrawals in that timespan has grown 150% and its possible with top slicing to fully withdraw without tax liability or loss of personal allowance.

A. Rebasing a bond is a completely valid planning strategy, especially when it comes to using a client's unused basic-rate band. What we know with unused basic rate band is that we can't carry it forward, so using it to surrender bond gains does make sense. Especially if delaying chargeable gains until the future means exposure to higher rates of tax.

As for the question on whether it's possible to top-slice and eliminate all of the tax liability, it's important to remember that top-slicing relief helps eliminate exposure to higher and additional rate tax. Top-slicing relief will not eliminate a client's exposure to basic-rate tax, even if the slice falls within the personal allowance.

Q. Do M&G offer a calculator that can scenario the cost differences between onshore/offshore over varying timeframes, growth, tax bands etc?

A. This is currently being developed by our team, so we hope to have an update in the near future.

Q. We have identified an Onshore Bond provider that taxes at lower rates that 20% (18%/19.25% depending on funds) given the internal taxation is corporation tax. Why do most other providers charge a flat rate of 20%?

A. We doubt they do but you can always ask them why? There is no set rule how a provider deducts tax to meet their liabilities.

Q. With Emily, whet about top slicing?

A. The calculation we ran for Emily included top-slicing relief.

Q. In the Emily example, what is the difference if she surrenders over 2 tax years rather than 1?

A. The onshore bond would still win, but the difference is smaller. We estimate around c£6,000.

Q. Sorry if I missed it, but did the case studies also consider the tax-deferral? i.e. the unused 5% tax defer on the amount invested

A. In the case studies, we deliberately decided not to use the tax-deferred allowance. This is because the tax-deferred allowance simply defers the tax into the future. In our case studies, it made more sense to realise gains as the grandchildren in case study 1 had no income, and neither did Stuart in case study 2. Why defer gains into the future when somebody is currently a non-taxpayer?

Q. In an offshore bond, does the gross roll-up advantage depend on the issued share class?

A. No, this is not our understanding. The gross roll-up principle relates to the tax wrapper itself as there is no UK tax on income or gains within the bond.

Q. Does using an offshore bond present additional complication in regard to wills & probate?

A. For wills we do not believe so. For our offshore bond we accept UK probate but reserve the right to ask for Irish probate.

Q. Can you confirm assignment of an onshore bond to grandchildren (no trust) does not lead to a chargeable event but would come under the 7-year rule?

A. Correct. If there is a bond (not in trust) and the owner of the bond gifts segments to grandchildren, then this would not trigger a chargeable gain, but it would be a transfer of value for IHT purposes, so it would be a Potentially Exempt Transfer (PET) in the case of an outright gift, or gift into bare trust.

Q. non-resident clients concern PI insurers. Do you have an opinion to manage the issue?

A. It’s not really a technical area but we think if there are non-resident clients they should be referred to an adviser with the necessary skills, authorisations, knowledge and experience to be able to advise them appropriately (or work jointly with one).